Global Standards Are Being Set. Where are the Americans?

An international framework of sustainability disclosure standards that will directly affect companies is currently under construction, and the stakes are high for US corporates.  In many areas of international finance and commerce, standards applicable in and among different markets are frequently subject to the views of nation-states and their business communities. This has been the case in financial supervision, aviation, shipping and many other sectors of the international economy.  These international frameworks are often foundational sets of rules common across markets that are then supplemented by national imperatives and policies. A similar dynamic is now playing out in the realm of sustainability disclosure standards for companies as the EU, UK, US, Japan and the international accounting standards setting body [i.e., the International Financial Reporting Standards (IFRS) Foundation] advance efforts that will impose ESG or sustainability disclosure on thousands of public and private companies around the world. Whether the coming sustainability disclosure requirements for companies are consistent and harmonized depends in significant part whether the U.S. business community constructively engages with the SEC, IFRS and/or EU.

The European Union, which includes the legislative and executive bodies of the European Parliament, Council and European Commission, has set out to establish a framework of sustainability disclosure that is intended to make the EU “a global leader in setting standards for sustainable finance.” Indeed, recent statements by European Commission leaders make clear that while there is a desire to achieve globally harmonized sustainability disclosure standards, a failure of sufficient engagement by the US business community and regulators could allow the EU’s Sustainable Finance Disclosure Regulation (SFDR) and Corporate Sustainability Reporting Directive (CSRD) to become more than a de facto global baseline of sustainability disclosure. The CSRD could become applicable to many American companies simply selling into the world’s largest single market.

This is more than just posturing. The European Commission estimates that approximately 49,000 companies will be subject to the forthcoming sustainability disclosure requirements of the CSRD. Thousands of public and private US companies that exceed relatively modest headcount, revenue and/or net income thresholds could potentially be obliged to report on a wide range of ESG-related topics, merely as a consequence of providing products and services in the EU. The substantial reporting requirements on investors will cascade down to those investors’ portfolio companies, who will effectively be required to provide disclosure necessary for investors to meet their sustainability disclosure obligations under the SFDR.  The SFDR and the CSRD together are critical pieces (but by no means all) of a sustainability disclosure framework that aims to ensure that investors and companies report reliable and comparable sustainability information needed by investors and other stakeholders. 

While the EU moves forward with sustainability disclosure efforts that address broad impacts of sustainability and serve many types of stakeholders, the IFRS Foundation is moving forward with sustainability disclosure that provides information relevant to enterprise value, with investors as the primary audience.  The IFRS Foundation, which governs and oversees the development and implementation of the International Financial Reporting Standards that are applied in over 140 nations globally, plans to create an International Sustainability Standards Board (ISSB). IFRS is moving to establish the ISSB because of market consultations throughout 2019-20 that demonstrated “an urgent need to improve the consistency and comparability in sustainability reporting.” The formal establishment and governance of the ISSB are planned to be announced in the run-up to the 26^th global climate change summit in Glasgow in November, 2021. Initial sustainability disclosure standards, which are being deliberated now, are likely to follow in 2022. IOSCO, the international association of national securities regulators, strongly supports the IFRS ISSB effort and is committed to the expeditious establishment of internationally applicable sustainability disclosure standards.

An ISSB and an attendant set of sustainability disclosure standards are almost certain to be created. Whether those standards reflect the traditional American focus on financial materiality and enterprise value depends in significant part on participation and constructive engagement by the US business community and the US SEC. Although the US historically has had meaningful representation on the IFRS Board, constructive engagement by the US in the establishment, funding and promulgation of standards of the ISSB is essential to balanced geographic representation in the governance of the new entity.

Which brings us to the US SEC’s likely imposition of disclosure requirements regarding climate change, human capital and ESG issues more broadly. Public statements by SEC Chair Gensler, Commissioners Lee and Crenshaw and other SEC officials make clear that new sustainability disclosure requirements are a virtual certainty this fall. This represents a third venue of sustainability disclosure requirements of obvious relevance to US companies.

The most sub-optimal outcome for US companies is an international disclosure landscape with fragmented requirements from the SEC, EU and the IFRS.  For global reporters (and with the reach of the EU’s CSRD and SFDR, there are a number of US companies that are global reporters but may not know it yet), the prospect of having to disclose similar information two or three different times, comply with varying degrees of assurance and even XBRL-tag similar disclosures three different times should concentrate the mind. Conversely, there are hundreds of international companies who are US filers by virtue of having a portion of their debt or equity securities listed in the US who will also find themselves subject to SEC sustainability disclosure requirements in addition to their local regulations.

The good news is that there is policymaker willingness at the US, EU and IFRS/IOSCO levels to achieve international harmonization (particularly with respect to a foundational layer of sustainability disclosure standards relevant to enterprise value that can be applied across markets), particularly through common reliance on or adoption of the SASB Standards and/or through the new ISSB.  The risk to investors is that any harmonization will result in globalized standards at the lowest common denominator; the risk to companies is that harmonization will reflect the most extreme levels of disclosure overload. But to make the prospect of global harmonization real– one which strikes a reasonable balance between benefits and costs – CEOs, CFOs and General Counsels need to get involved and authorize their companies to substantively engage at the SEC, IFRS and EU. Mandatory ESG reporting for thousands of companies is coming.  The only real question is whether the American business community’s perspective is going to have an impact – the time   is now.  

Gary Kabureck is Senior Advisor to the Value Reporting Foundation.